|When is the right time to refinance?
With "everyone" talking about the historically low mortgage rates you are ready to decide if it "pays" to refinance. The "rule of thumb" supplied by mortgage companies is that if you can reduce your interest rate by 1% it is usually profitable.
But there is more to it than that. Like how long are you planning on staying in the house? If there were no fees or costs involved that wouldn't be a consideration.
But in the real world, the first thing you need to determine is what rates do you qualify for and what are the other factors like points and closing costs . (See How to Find a Good Mortgage)
When you refinance it is common to roll the additional costs and fees back into the mortgage so there are no "out of pocket" costs. But this allows the Bank or other mortgage holder to charge you interest on these fees. At the current low interest rates and if you choose a short time period for your mortgage the additional interest will be relatively small.
But even at these low rates, if you have a 30 year mortgage, interest will end up doubling the amount of fees over the 30 year life of the loan.
Let's assume you took a 30 year, $115,000 First mortgage on a house 5 years ago. The interest rate at the time was 7.5% and your principal and interest payment was $765.10 per month.
(If $765.10 sounds low to you, remember your "actual payment" may also include mortgage insurance, taxes and home owners insurance.)
After paying $765.10 per month or $9181.20/year for 5 years you have spent a total of $45,906. Plus, you still owe about $108,000 on your $115,000 mortgage and you still have 25 more years to go!
Obviously, not much of your payment goes toward principal the first few years of a 30 year mortgage! So the sooner you can get out from under the better.
Now that interest rates have fallen to around 5% you are considering refinancing. Let's assume Closing Costs and additional fees and expenses will be about $3,000. This means you will have to "borrow" $111,000. to pay off your $108,000. loan (or come up with the $3,000.) from savings.
If you decide to refinance the additional costs for another 30 years... your loan amount would be $111,000. and you would be almost back to where you started 5 years ago... but your payment would drop to $595.87 for a monthly savings of $169.23
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